What are the tools that central banks use to influence economies around the world?

v1.3

Okay, I’ll admit this is a huge question. The reason I chose it was because of a video I ran across yesterday by Grant Williams:

Here’s what Grant Williams says about Grant Williams:

Grant is portfolio and strategy advisor to Vulpes Investment Management in Singapore and also one of the founders of Real Vision Television — an online, on-demand finance channel showcasing the brightest minds in finance.

He’s definitely an advocate for gold but that’s not the point of why I’m including the video. In fact, my aim is not to push ANY particular investment strategy. The video is both informative and entertaining and I’m using it as a starting point for explaining some important concepts. It’s also a great example of a video that assumes a buch of knowledge. Now I think Mr. Williams goes to great lengths to clearly outline his points, however, he didn’t want to make the video multiple hours long. That’s where I come in. Not really, but I am going to try and break down some of the questions whose answers are necessary if you want to understand the concepts in the video.

I’ve recreated his initial US GDP vs Total Credit Instruments chart in FRED, a chart he calls the chart to rule them all below:

Related questions regarding GDP and the Total amount of credit instrucments can be found here:

So in the video Grant says:

…and the future path of the relationship between these two lines will determine what kind of resolution we experience.

One of the relationships he’s referring to is the debt to GDP ratio. If we look at the latest ratio for this chart, that is, dividing GDP by TCMDO we get 348%. Is that good or bad? And better yet how do I determine what’s a good or bad ratio? Considering the tone of the video I’m guessing 345% is not a good ratio of debt to gdp.

The next question he addresses is what’s changed with respect to the world’s total debt level since the financial crisis. For this he looks to research by the McKinsey Global Institute in February of 2015 entitled Debt and (not much) deleveraging. The conclusion is that instead of deleveraging the world has added an additional $57 Trillion dollars is debt since the crisis. Grant has cast this added debt similar to the ole hair of the dog treatment.

In the next slide he goes on to point out that report shows where the bulk of increased debt is coming from: the government. Household and Financial debt leverage has gone down while government leverage has gone up significantly.

Next, he turns to China and looks again at the measurement of debt to gdp. Recall that GDP is adding up all goods and services produced in a given year. The debt is the amount of money borrowed by various participants in the market. Initially, China’s debt as a percentage of GDP has gone up dramatically between 2000 and 2014, rising from 121% to 282%. What’s even more interesting is whose taking on the debt. Finally he shows the increases in dollar terms $2.1 Trillion (2000) to $28.2 Trillion (2014).

What is deleveraging?